In evaluating which companies to own, actively managed investors typically focus on company strategy, competitive advantage, quality of management, and board skills and oversight. Once they own companies, many investors exercise varying levels of ongoing stewardship over these portfolio companies, monitoring their performance and progress in executing the strategies the investors initially bought into. Thoughtful proxy voting is a major component of effective stewardship, and major inputs include close reading of company proxy statements, proxy advisor analyses and direct engagement with portfolio companies.
Over the past few years, there has been a marked flow of investor funds from active to passive management styles. The “big three” of Vanguard, BlackRock and State Street Global Advisors collectively own 20% or more of many U.S. companies. While “passive” may describe their portfolio selection approach, they are far from passive with respect to stewardship over their portfolio companies. In fact, because they cannot simply sell companies they are dissatisfied with, and thus consider themselves to be permanent investors, they most acutely feel the need to exercise active stewardship over their portfolio companies in an effort to boost returns.
Because passive investors do not have equity analysts and portfolio managers analyzing individual companies, they often are not receiving or digesting your ongoing IR communications. In fact, these investors have been described as “IR-immune.” Compounding the challenge, their stewardship teams, which exercise responsibility for company engagement and proxy voting, are often resource-constrained, with a handful of people responsible for overseeing their broad U.S. as well as global portfolios.
Thoughtful voting requires some knowledge of company-specific context, which issuers typically provide through their IR communications, the annual report/10-K, investor days and quarterly earnings calls—all of which are supplemented by independent research reports. Unfortunately, resource-constrained passive investors report they often lack the time to perform such broad-ranging research, relying principally on a company’s proxy statement, proxy advisor reports and their own analyses in arriving at voting decisions. These investors say, “If you want us to consider something specific when voting, put it in the proxy.” This same sentiment also applies to many actively managed firms at which engagement and proxy voting are handled by distinct groups often working independently of their investment management teams.
For these reasons, motivated by a desire to meet the informational needs and resource constraints of proxy voting teams at passive and active managers alike, an increasing number of companies are providing additional, non-SEC-required, voluntary information in their proxies. This can include:
Responding to an intensifying focus on company boards and executive compensation over the past couple of years, we have seen more companies respond to investor scrutiny by providing greater clarity into these two major issues. For each of these issues, we present an example from 2018 proxy filings that demonstrates how companies can and are addressing these contextual informational needs.
On page 28 of its proxy statement, Public Service Enterprise Group (PSEG) outlines board diversity, including not just the data points about gender, ethnicity, age, tenure, background and qualifications, but also why this mix of skills meets the company’s unique current and foreseeable needs (Figure 1).
Second, Edwards Lifesciences Corporation details CEO compensation and how it is evolving to align with what may be an evolving corporate strategy (Figure 2).
Many companies are learning how a relatively small group of large, long-term mainstream investors—often employing primarily passive investment strategies—can make or break a director election, Say on Pay vote and other critical proposals requiring shareholder approval. By explaining “why” in addition to “what” you do, companies may foster greater understanding and even support for non-standard practices. Addressing the informational needs of investors, and thereby making their jobs easier, public companies can mitigate the impact of negative proxy advisor recommendations and fare better in the face of activist challenges, providing you with more time to focus on running the enterprise as effectively as possible.
The New York City Comptroller’s Office, which oversees the New York City Pension Funds, has been particularly active in studying and prodding companies on board diversity and director qualifications. Starting with its 2014 push for proxy access, the Comptroller’s Office has publicized its “Boardroom Accountability Project 2.0,” which challenges companies to demonstrate sufficient board diversity (gender being but one such measure). Here, the implicit threat is that “Boardroom Accountability Project 3.0” could include using proxy access to place new and diverse candidates on boards. The following is how the Comptroller’s Office describes this initiative:
“Launched in early September 2017, Comptroller Stringer and the NYC Pension Funds escalated their push for corporate board diversity, independence and climate expertise with the Boardroom Accountability Project 2.0. The trailblazing “Boardroom Accountability Project” was launched in 2014 to give investors a real voice in who sits on corporate boards. This next phase of the campaign will ratchet up the pressure on some of the biggest companies in the world to make their boards more diverse, independent and climate-competent, so that they are in a position to deliver better long-term returns for investors.”
Ron Schneider is the Director of Corporate Governance Services for Donnelley Financial Solutions. He can be reached at ronald.m.schneider@dfsco.com.